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Exxon Mobil (XOM) shares were down 1.5% Thursday morning as investors reacted to a disappointing quarterly report (press release available here). Over the past three months, shares had rallied 7% as investors were enthused by the news Warren Buffett had taken a $4 billion stake, which renewed hope the company would finally be able to consistently grow production. Unfortunately after reporting a strong third quarter, Exxon's numbers reverted back to their historical trend of lower production. In fact, the company hasn't grown production organically since 2006. This quarter shows that Exxon stock had gotten ahead of the fundamentals and remains one of the weaker major oil stocks.

In the fourth quarter, Exxon earned $1.91, which missed expectations for $1.92. Moreover, earnings were down from last year's $2.20 while revenue was disappointing at $110.9 billion. This revenue figure was also down 3% year over year. Exxon's upstream and downstream earnings were both lower year over year due to some price weakness, a tighter crude spread, and lower production. In the quarter, cap-ex and exploration was down 20% year over year to $9.9 billion, though it was up 7% over the entire year to $42.5 billion.

Despite the massive amount of money Exxon has been spending on cap-ex, it has been unable to grow production. In this quarter, production was disappointingly down 1.8%, though the company blamed this decline on OPEC and divestitures. Apart from these factors, XOM believes production would have been flat. Still with the amount of money Exxon is spending, flat production is deeply disappointing. With cap-ex spending that it is up over 50% from 2009 levels, Exxon should be able to grow production at least 1-2%. With another disappointing quarter of production, the efficacy of Exxon's capital program continues to be questionable.

Now, it is not all bad news for Exxon. While the company is struggling to grow, it does generate a significant amount of cash, and it returns vast amounts of free cash flow back to shareholders through buybacks and dividends. In this sense, Exxon is very similar to another Buffett investment, IBM (IBM). In the quarter, operating cash flow was $12 billion, though that included $1.8 billion in asset sales. In the quarter, the company bought back $3 billion in stock while paying out a $0.63 dividend that was up 11% from last year's payout. Exxon will continue to aggressively buy back shares and pay a decent dividend. In the entire year, the company returned over $26 billion to shareholders. However unless it can start to grow operating cash flow through production growth, it will struggle to meaningfully increase the pace of returns.

Declining volume and an unfavorable production mix cut earnings at Exxon's upstream operations by $550 million. Over the past two months, natural gas prices have soared as the United States has been struck by unseasonably cold weather. If natural gas can sustain these levels over $5, Exxon should benefit in coming quarter as the company has significant exposure to nat gas after its ill-timed XTO acquisition. However, if this rally in natural gas is seasonal, it will provide only a temporary relief to numbers. Unfortunately for Exxon, it continues to get more expensive to extract oil and gas with operating expenses and other items cutting earnings another $490 million. Rising expenses and weak production is not a good combination going forward.

While weak production cut upstream results, downstream results were also extremely weak. Downstream earnings were $916 million, which was down $852 million from last year. The majority of this decrease was driven by weaker refining margins. 2012 refining margins were unsustainably high, so there was bound to be a year over year decline, though the magnitude was disappointing. Driven in part by lower production, petroleum product sales declined 114 kbd to 5,994 kbd.

For the full year, the company earned $7.37, which was down from last year's $9.70 as revenue fell by $42 billion, though costs were only down $21 billion. For the full year, production on an oil-equivalent basis was down 1.5%. In the full year, upstream cap-ex was up $2 billion (5.6%), though it failed to power any production growth. 2013 was simply a disappointing year.

In 2014, I expect production to remain about flat. Upstream expenses should continue to rise, though a stronger nat gas market should be able to offset some of this cost increase. With the company buying back 2.5-3% of shares again in 2014, I am looking for earnings to rise to $7.80-$7.85. After today's drop, shares have a 12x multiple. With minimal growth prospects, this is not a particularly attractive valuation, especially compared to peers. Chevron (CVX) is trading 10x forward earnings and should grow production 1-3% in 2014. ConocoPhillips (COP), which spun off its downstream operations, is trading about 10.7x earnings despite 3-5% production growth and a better dividend yield. With another weak quarter, it is clear the recent enthusiasm in XOM was undeserved. I wouldn't be interested in XOM until it trades 10-11x earnings or $78-$85. Investors will do better in either COP or CVX than in Exxon.

Source: Lacking Growth, Exxon Mobil Is Still Expensive